Mark Heesen, NVCA: Optimism Wanes For Start-Up Ecosystem As Venture Capitalists And CEOs Face Economic Realities In 2012

December 22, 2011

Realism, rather than optimism, abounds for the venture capital and start-up economies in 2012, according to the results from this year’s Venture View predictions survey conducted by the National Venture Capital Association (NVCA) and Dow Jones VentureSource. When compared to last year’s survey, forecasts from venture capital professionals (VCs) and venture-backed CEOs are less confident and more measured for the coming year, with few notable bright spots. There is considerable enthusiasm for information technology (IT) investment, particularly on the consumer side, as well as start-up company momentum, especially job growth. Yet, predictions in critical areas such as IPOs and venture fundraising are tepid at best, reflecting ongoing, unavoidable challenges faced by VCs and entrepreneurs alike.

"Due to the large number of market and political factors at play, it is incredibly difficult to predict the state of the venture capital ecosystem in 2012,” said Mark Heesen, president of the NVCA. “Despite the fact that venture capitalists and entrepreneurs are well positioned to thrive, externalities are keeping optimism at bay. The venture industry is not an island unto itself and economic instability here and abroad, coupled with a number of public policy issues poised to impact the start-up community, can offset the positives such as an improving IPO pipeline and opportunities for FDA and capital markets reform. These uncertainties are clearly to blame for the less sanguine predictions this year. However, it is encouraging to see venture capitalists and entrepreneurs forecasting a number of positives including increasing valuations, headcount, and global activity amidst the realities that face our industry."

The sixth annual Venture View survey reflects responses from more than 500 venture capital professionals and CEOs of venture-backed companies in the U.S. collected between November 30 and December 9, 2011.

CEOs More Optimistic Than VCs on Investment Levels; IT Sectors Predicted to Rise as Life Sciences and Clean Technology Decline

CEOs are more optimistic about the level of venture capital investment overall with 45 percent predicting increases in 2012 compared to 32 percent of venture capitalists who expect to see investment levels rise. Thirty-six percent of VCs see overall investment levels decreasing compared to 25 percent of CEOs. Both groups are less bullish than they were in last year’s Venture View survey when 58and 51 percent of CEOs and VCs expected investment increases respectively.

Most venture capitalists predict investment increases in consumer IT (64 percent of respondents), healthcare IT (61 percent of respondents) and business IT (50 percent of respondents). Seventy-three percent of all respondents expect investment froth in consumer IT. On the flip side, 58 percent of VC industry respondents expect investment decreases in the biopharmaceutical and medical device sectors and 55 percent expect investment levels to decline in clean technology companies.

Tougher Funding Environment for Companies and Venture Firms

Next year, there will be a seed and early stage funding shortage according to 58 percent of VCs. CEOs anticipate a difficult funding environment as well with 67 percent predicting that raising follow-on money will be equally or more difficult in 2012 than in 2011. Still, 75 percent of the CEOs plan to raise money in the coming year.

On the venture capital side, fundraising is expected to continue to be difficult with 73 percent of VCs predicting total commitments to remain the same or decline in 2012. This compares to 2011 when 62 percent forecasted stable or declining levels of fundraising. Further, 69 percent believe that limited partner agreements will favor LPs with only six percent predicting they will favor GPs.

“We can expect a competitive environment for capital on both sides of the venture business in 2012,” said Jessica Canning, global research director for Dow Jones VentureSource. “With nearly three-quarters of VCs predicting limited partners will commit the same amount or less to the industry and about the same proportion of CEOs expecting to raise money, financings could get tighter with some companies left to survive on their own.”

IPO Market Predictions Tepid; More Bullish on Acquisitions

Overall, venture capitalists are much less bullish on the 2012 IPO market with 48 percent forecasting increases in overall volume compared to 67 percent last year. Greatest gains are predicted for the technology IPO sector where 63 percent of VCs predict volume increases. Only 18 and 15 percent of VCs predict IPO volume increases in the life sciences and clean technology sectors respectively. The majority of VCs (57 percent) do not see performance improvements in venture-backed IPOs overall or in any particular sector in 2012. CEOs are making similar predictions with 49 percent predicting volume increases in venture-backed IPOs for 2012 compared to 58 percent in 2011.

Venture capitalists are more positive on venture-backed acquisitions with 69 percent of respondents predicting higher acquisitions volume and 43 percent anticipating higher acquisition quality. This is still less optimistic than in 2011 when 82 percent of VCs predicted acquisitions volume increases and 51 percent forecasted higher quality. Similarly, 76 percent of venture-backed CEOs believe there will be more acquisitions in 2012 compared to 81 percent in 2011.

Alternative Exit Activity Plans are Limited

Only 16 percent of venture-backed CEOs plan to cash out their personal equity in 2012 and just six percent plan to sell secondary shares. Yet, nearly half of the VC respondents expect more activity on the secondary market next year. In terms of actual exits, 36 percent of CEOs predict their companies will be acquired in 2012 by a public company and 22 percent forecast being acquired by a private company. Twenty-three percent think their company will acquire another company. Six percent expect to IPO in 2012.

VCs and CEOs More Bearish on Economy; See Gains in NY

CEOs are more optimistic about the U.S. economy with 53 percent expecting improvements next year compared to 47 percent of VCs. Yet, both are more bearish than they were in 2011 when 63 and 64 percent of VCs and CEOs thought the economy would improve in the coming year. Regionally, 46 percent of VCs and 41 percent of CEOs expect the New York start-up ecosystem to improve further in 2012. Both groups were less optimistic about improvements in Silicon Valley (34 percent of VCs and 42 percent of CEOs) and New England (25 percent of VCs and 34 percent of CEOs).

Global VC Investment Activity Predicted to Increase with Fewer Going to China

Fifty percent of the VC respondents will invest outside the U.S. next year with China and Western Europe being the most cited global region at 19 percent each, followed by Canada (14 percent), India (12 percent), Latin America (10 percent), Eastern Europe (7 percent), Middle East (6 percent), Africa (4 percent) and Japan (3 percent). In 2011, 47 percent of VCs planned to invest outside the U.S., though last year’s survey showed more anticipated investing in China and India at 26 and 18 percent respectively. The proportion of VCs planning to invest in Western Europe, Canada and Latin America remain essentially unchanged from 2011 predictions.

Venture Capitalists and CEOs Align on Term Sheet Expectations

The expectations of venture capitalists and CEOs regarding deal structure are converging with 53 percent of VCs and 56 percent of CEOs believing that financing terms will favor VCs over entrepreneurs in term sheet language. Last year, the two stakeholders were much further apart on this issue with 42 percent of VCs and 61 percent of CEOs believing that VCs would be favored in term sheet structures.

CEOs More Engaged in Social Media Than VCs

VC-backed companies are expected to get a great deal of social media support in 2012 as 58 percent of VC respondents expect to use social media channels to promote their portfolio companies and 56 percent intend to promote their firms in this way. Market intelligence (50 percent), publishing thought leadership pieces (39 percent) and hiring (38 percent) are other activities for which VC firms anticipate using social media next year. Twenty-three percent of VCs will not use social media at all in 2012.

VC-backed CEOs predict being more active in social media than their VC counterparts with 73 percent planning to us the channels for public relations, 64 percent for sales and marketing, 54 percent for hiring, 47 percent for market intelligence, 38 percent for publishing thought leadership pieces, and 33 percent for customer service. Only 12 percent of the CEOs do not plan to use social media next year.

Portfolio Companies Expect Good Progress in 2012

Both VCs and CEOs are optimistic about valuations in 2012 with 63 percent and 80 percent respectively expecting increases next year. Last year, 50 percent of VCs and 77 percent of CEOs expected valuations increases. Sixty-nine percent of CEOs will increase global activity at their companies next year. Eighty-six percent of all venture-backed CEOs expect to increase their head count in 2012.

Romney Vs Obama in 2012 with Obama Winning by Slim Margin

The venture capital ecosystem predicts that Mitt Romney will be the 2012 Republican Presidential nominee with 79 percent of VCs and 67 percent of CEOs saying so, followed distantly by Newt Gingrich at 17 percent of VCs and 27 percent of CEOs. A second term in office for President Obama is in the future according to 64 percent of CEOs and 56 percent of VCs.